Does Losing Less Mean that You Are Winning?
By David Henderson
I started to write a blog post critical of an article by Lawrence Solomon, in Canada’s Financial Post, titled “Remember Trump’s supposedly ‘lose-lose’ trade war? He’s winning, China’s losing.” (Financial Post, January 11, 2019.)
I thought he was making a basic mistake. I was wrong. It was my mistake. But you will see why the title above is not ideal, given the conclusion I’ve now come to.
Here’s what I wrote at first:
He’s half right.
China is losing. And Solomon gives the economic data to support that claim. We don’t even need to look at the data: the best the data can do is give us a better idea of the magnitude of the losses. But even without the data, we would expect a major exporter to lose when a major importer of its products imposes tariffs on its products. That’s basic economics. You don’t even have to understand international trade to understand this. All you have to understand is trade, period. Voluntary exchange benefits both parties. So when a government, whether the Chinese government or the U.S. government, taxes that trade, it makes both parties to the putative exchange worse off.
But notice what I just said: it makes both parties worse off. Who is the other party? American consumers.
I guess you could parse the title of Solomon’s piece and point out that he didn’t say that America is winning; all he said is that Trump is winning. But if you read the piece, you see that he clearly meant that America is winning. If you have any doubt, look at the last sentence of his article:
Contrary to the conventional wisdom, this trade war is anything but lose-lose. This one is a big win for the U.S.
So how does Solomon support that? How could it be that, in this case, tariffs actually help the U.S. economy? Solomon does a sleight of hand. He points to how well the U.S. economy is doing, giving correct data on the low unemployment rate and the increase in employment. That is good news. But it doesn’t address whether the Trump taxes on trade are helping the U.S. economy. It simply shows that despite those taxes, the economy is doing well.
And Solomon seems to know that. Otherwise, why would he write this?
While China’s demise and America’s rise can’t all or even mostly be attributed to Trump’s tariffs, the tariffs clearly hurt China’s economy more than America’s. For one thing, the “tax” that tariffs represent has mostly been paid by China. According to a recent policy brief from EconPol Europe, a network of researchers in the European Union, U.S. companies and consumers will pay only 4.5 per cent of the 25-per-cent tariffs on US$250 billion of Chinese goods, with the other 20.5 per cent falling on Chinese producers.
Hurting “China’s economy more than America’s” is not the same thing as helping America’s economy. Someone gives you and me an option. I get to destroy 20.5 cents of yours and in return I destroy 4.5 cents of mine. How much am I helped?
To be fair, I should point out that he does immediately add the following:
The EconPol report found that the Trump administration selected easily replaced products, forcing China’s exporters to cut selling prices to keep buyers. “Through its strategic choice of Chinese products, the U.S. government was not only able to minimize the negative effects on U.S. consumers and firms, but also to create substantial net welfare gains in the U.S.,” the authors determined, adding that the tariffs will accomplish Trump’s goals of lowering the trade deficit with China.
OK. Got it? That’s what I wrote. Then I thought I had better check the policy brief from EconPol Europe. I’m glad I did. It has changed my mind.
I hasten to add that it has not changed my mind about whether tariffs on China are a good idea. But it has changed my mind about whether Solomon can say that the United States is a net gainer from those tariffs.
I thought about losses to U.S. consumers versus gains to U.S. producers. It’s clear that the losses exceed the gains.
But what entity did I leave out? The U.S. government, which gets revenues from those tariffs.
Here’s the key paragraph of the study, Benedikt Zoller-Rydzek and Gabriel Felbermayr, “Who is Paying for the Trade War with China,” EconPol Policy Brief, November 11, 2018:
We compute the total economic effect of import tariffs as the sum of the red and green areas in Figure 1. This can be interpreted as the monetary value that Chinese firms and US consumers would be willing to (jointly) pay to avoid these tariffs. The aggregate welfare losses in China and the US are around USD 1.6 billion. Only about one third, or USD 522 million, of these losses are sustained by US consumers (green triangle in Figure (1), while the remainder falls to Chinese exporting firms. To evaluate the total welfare effects for US consumers and firms, we have to consider potential tariff revenues. Most of the tariff incidence falls on Chinese firms. It is their declining profit margins that would pay for a large share of the tariffs, i.e. the red rectangle in Figure 1. These tariff revenues can be used to compensate for the welfare losses of US consumers. In total, the tariff revenues of the tariffs introduced by President Trump amount to USD 22.5 billion, of which USD 18.9 billion are to be paid by Chinese firms. This implies net welfare gains of USD 18.4 billion for US consumers.
The authors, by the way, are following standard cost/benefit analysis principles plus using a national rather than international framework: adding up dollar gains and subtracting dollar losses, all for American residents.
Essentially what they have discovered is what in the economics literature is called an “optimal tariff.” It’s a tariff designed to make the residents of the country whose government is imposing it better off.
HT2 Janet Bufton.